COUNTERCOLUMN: All Your Bias Are Belong to Us

Monday, November 26, 2007

Hmmmm...I think I can see what the problem is.

In Granada Hills, Calif., Natalie Brandon is fighting to keep the three-bedroom ranch house she bought in 1985 for $105,000. Mrs. Brandon, 51, does medical billing for doctors; her husband is a dispatcher for a local gas utility. Last year, she got a $625,500 mortgage from Argent, now owned by Citigroup. Her 7.99% interest rate isn't set to rise until next June, but she already is behind on payments.

Over the past five years, she has refinanced her home five times, each time taking out cash and paying prepayment penalties. Last year, all she had to do to refinance was state that she and her husband earned a combined $100,000. She says she used the proceeds to pay off $30,000 owed on her white Lexus.

This year, she says, their income fell after she suffered a short-term disability. Mrs. Brandon figures if she sold her home today, she wouldn't get more than $450,000 -- what a nearby home sold for in foreclosure.

I just recently found out that an Uncle of mine is in the same position with his house, which is a house my Grandfather built (and then my grandfather and Uncle added onto). I should have known when he bought a particularly nice car about a year and a half ago, but I naively assumed that his home business was doing well. Nope, he was just in his fifties and thought he was owed it. Now, his youngest daughter, my cousin, will get to see this house, the house my grandmother and grandfather both died in taken away because my uncle used it like an ATM.

Do I care if the value of my home has dropped if my income increases? Let's say that the unthinkable happens, restrictions on new development either disappear, or are reduced to a point where new sub-divisions are allowed within five miles of my home. In a town of 5-thousand, and increase of buildable, affordable lots by 500 to a thousand would significantly reduce the upward pressure on existing home prices. So what if the "value" of my home drops twenty percent, if my wages increase?

Well, you can't move, unless you can cover the 20k in equity you don't get with the new, lower price.

This might put a crimp in your ability to raise a family, or relocate to take a job with better long term prospects or a better quality of life.

If you don't HAVE to move, you're fine. But if you were to be laid off from your local job, and you had to move to stay employed, you are in a world of hurt.

Yes, the drop in the price of a replacement home would, in theory, offset your loss, in a way. But if you are upside down in your house, your risk goes up exponentially, and as an individual, you have very little ability to absorb those risks, compared to the capital markets.

I always liked Robert Shiller's idea of House Price Insurance for that reason.

Of course, he proposed it years ago, and it never really got anywhere. I think it's because the smart money in the insurance world knew better than to underwrite an emerging bubble, even several years ago.

If house prices fall another 20%, we will see meaningful house price insurance on the market. Too late for this bubble, of course. But an unprofitable house price insurance scheme wouldn't last too long anyway.